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June 21, 2006

In Russia’s Far East, Gold Miner Thrives

by Sam Savage

By Robin Paxton

POKROVSKY RUDNIK, Russia (Reuters) - British banker Peter Hambro once sold part of his wine collection to fund a fledgling gold mine in Russia's Far Eastern forests.

Now, his partners at Russia's third-largest gold producer toast plan to quadruple output, with a vodka named after the mine. Russia's gold deposits, second only to South Africa's, have lured investors prepared to brave opaque legislation and creeping Kremlin control over strategic assets.

"It's a good time to be a miner," said Sergei Yermolenko, general director of the operational arm of London-listed Peter Hambro Mining.

Gold soared to a 26-year high in May. Although it has since retreated as money flees risky asset classes, analysts say prices are set to remain high.

Every day, Hambro's Pokrovsky mine -- six time-zones east of Moscow and nearer Beijing than the Russian capital -- moves over 5,000 tons of earth to produce a 16-kilogram (35-pound) gold bar worth about $300,000 at current prices.

Dmitry Chekashkin, deputy general director of the management company, said $62 million has been invested at the mine, where Belarussian-made trucks haul rocks 85 yards to the surface.

Foreign companies would be hard pressed to match these costs in Russia today.

"In the 1990s, you could come to Russia and buy assets very cheaply," Deutsche UFG metals analyst Olga Okuneva said.

"But now, we have come through the initial consolidation stage and Russian investors also have the money. It's so hard now to find bargains."

LOW COSTS

Foreign investors are attracted to Russia by low mining costs -- it costs about $160 to produce an ounce of gold at Pokrovsky compared with a global industry average of $260 -- and an economy growing by more than 6 percent annually.

But there are deterrents: miners in Russia must pay a 6 percent royalty on every ounce sold, three to five times higher than in other countries.

And the Kremlin's growing control over strategic assets, while felt most acutely in the oil and gas sector, has also spooked private and institutional investors in mining.

The Kremlin has tightened its grip on the energy sector in the last few years and plans to raise another bar to foreigners by stopping them from owning "strategic" oil and gas fields.

In mining, a draft resources law that could restrict foreign access to Russian mineral assets, including the enormous Sukhoi Log gold deposit, is expected in the near future.

"Investors are becoming more receptive to Russia, but every time you get a wobble with Gazprom it reminds people of the country risk," a U.S.-based hedge fund official said, referring to Russia's state gas monopoly.

This month, Putin flatly rejected the idea of breaking up Gazprom, dousing foreigners' hopes of getting into the sector.

RUSSIAN COMPANY

Peter Hambro Mining does not see itself as a foreign firm.

Its shares, which have doubled in the last year, might be traded in London and its chairman may be a member of a famous British merchant banking family, but mine bosses are Russian.

"We're considered a very Russian company," said Hambro.

Hambro's Russian partner, Pavel Maslovsky, was ranked the country's 92nd-richest man by Forbes magazine in May, with a personal fortune of $490 million.

Hambro first started dealing with the Soviet Union in the 1980s when he was a precious metals dealer.

His firm and leading Russian gold miner Polyus Gold were invited to join President Vladimir Putin at a meeting on strategy for the gold sector last year.

The mine, which employs 1,670 people, is an integral part of Amur's economy; a local timber yard makes all the furniture used in the mine's spruce living quarters, while biscuits from the on-site bakery feed a nearby kindergarten as well as the miners.

Pokrovsky's executive director Andrei Lushchei said workers take home an average monthly wage of 15,000 roubles ($558) -- almost double the average for the region.

Hambro mining hopes to produce a million ounces of gold a year by 2009 -- four times output today.

The company has set aside $327 million to expand the Pokrovsky mining area and develop new deposits, while trying to keep a lid on rising costs.

Hambro said the Malomir project -- possibly the largest of the firm's deposits in Amur and scheduled to come into production in 2008 -- would offer economies of scale.

"Malomir has the potential to be a huge unit producer and economies of scale work really well in our industry," he said. "In effect you could develop two mines there with one set of infrastructure."